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McKesson Juggling Series of Transactions as 1Q 2016 Earnings on Tap

McKesson Corp. (NYSE: MCK) is in the midst of key transactions that are intended to better position it to remain a leader in the healthcare services industry.

While its efforts are admirable, concerns have been raised about one of them.

Last week McKesson’s health solutions unit announced that it has expanded its
portfolio to include ClarityQx by acquiring HealthQX. ClarityQx offers a value-based payment technology.

Health plans use ClarityQx for analytics and for automation of retrospective bundled payment models. They also use McKesson’s Episode Management to support automation of prospective bundled payment, according to McKesson.
The collaboration is intended to enhance McKesson’s ability to help customers transition to value-based care by automating and scaling complex payment models.

 · Change Healthcare

The ClarityQx announcement came on the heels of the company announcing a complex deal to exit its IT business. Specifically, it said it was exploring strategic alternatives for its Enterprise Information Solutions (EIS) business, which provides core hospital information systems. EIS is reported as part of our McKesson Technology Solutions segment.

McKesson announced last month that it was forming a healthcare information technology company with Change Healthcare Holdings Inc. that will include the majority of the McKesson Technology Solutions businesses.

Change Healthcare is a healthcare software company owned by Blackstone and Hellman and Friedman. McKesson’s EIS business serves hospitals and health systems with software solutions, managed services, and infrastructure and hosting services.

These services help hospitals perform in the new healthcare reform environment.
The head of the EIS business said that while the company evaluates the best options, the overall priorities for EIS remain unchanged.

The concern over the EIS plan is that it could reduce McKesson’s financial flexibility. According to Moody’s Investors Service, the EIS development is credit negative because it will reduce McKesson’s diversification profile and its profitability.

While it did not change its rating for McKesson, Moody’s chimed in with its concerns. Diana Lee, a senior credit officer for Moody’s, stated in a recent ratings report:

“Moody’s estimates that McKesson’s pro-forma debt/EBITDA, excluding profits that will be contributed to the [joint venture], will be around 2.5 times.”
McKesson’s debt/EBITDA as of March 31 was about 2x, according to Moody’s.

 · Closing Rexall deal

The ratings agency, which affirmed its ratings for McKesson’s senior unsecured debt also pointed out some headwinds McKesson may have to confront.

Specifically, in the coming months, McKesson is closing its $2.2 billion deal to buy Rexall Pharmacy deal. Moody’s notes the deal is likely to result in additional borrowings.

 · Loss of Rite Aid

Moody’s also noted the possibility that McKesson will lose its Rite Aid contract if Walgreens Boots Alliance completes its merger with Rite Aid. However, McKesson has about $4 billion of cash and strong cash flow, which it could use to reduce its debt levels. In addition, the joint venture will dividend about $1.25 billion to McKesson at close, Moody’s noted.

 · Earnings on tap

Investors should get a better idea about how all of these transactions will affect McKesson next week. It is set to report its first quarter earnings for fiscal 2016 on July 27. The consensus estimate calls for it to report earnings per share of $3.39 on about $50 billion of revenue.

McKesson’s shares up roughly 9% over the past month, and about 14% over the past three months. It is also trading above its 50-day and 200-day moving averages by 8.62% and 12.07%, respectively. It has a relative strength index of 68.52, which indicates that it is not overbought.

At the end of June, McKesson announced that it was raising its previous guidance range of $13.30 to $13.80 per diluted share to a new range of $13.43 to $13.93 per diluted share. This updated outlook is driven by the early adoption of Accounting Standards Update 2016-09 as released by the Financial Accounting Standards Board.

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